A totally equity financed company with XXXXXXXXXXoutstanding ordinary shares, each with a book value equal to market value of R50, is in the process of introducing debt into its capital structure....

A totally equity financed company with 15 000 outstanding ordinary shares, each with a book value equal to market value of R50, is in the process of introducing debt into its capital structure. Funds raised through debt will be used to retire some of the shares and the company’s aim is to maintain the same total amount of financing. The company pays all its earnings as dividends and is subject to a 28% tax rate. The expected sales are R600 000, fixed costs is R100 000 variable costs are estimated at 30% of total sales and the cost of equity is 10%.

The following capital structures are being considered:
Capital structure A at 20% debt ratio
A loan provided by Standard Bank at 16% per annum interest rate. Capital structure B at 40% debt ratio
A loan provided by Capitec Bank at 18% per annum interest rate